The Presidents / Chief Executives
All Banks / DFIs

Dear Sirs/Madam,

Guidelines on Stress Testing

As you are aware, measuring, monitoring and controlling various types of risks is vital for ensuring the financial health of a financial institution as well as the entire system. For this purpose, financial institutions around the globe are increasingly employing sophisticated techniques for managing risks. Stress testing is one such technique that has been used to assess risk exposures across the institution and to estimate the changes in the value of the portfolio, if exposed to various risk factors.

State Bank, in pursuance of its goal to further strengthen the country’s banking system, has also designed a stress-testing framework for banks and DFIs to proactively manage risks. For this purpose, and to ensure consistency, the State Bank has prepared a set of guidelines for banks and DFIs. Keeping in view the divergence of skill level and available resources among banks and DFIs, the model, initially, focuses on “Simple Sensitivity Analysis”. However, with the increasing know-how and availability of more data the model will over time undergo further refinement.

All banks and DFIs are advised to carry out the stress test, as per the attached guidelines, from the year ending December 31, 2005. In this respect, they shall also submit a report on the format attached as Annex -II to the guidelines, within 45 days of the close of year ending December 31, 2005, alongwith a soft copy to the Banking Supervision Department (BSD). Subsequently, the stress test will be carried out semi-annually i.e. on June 30, and December 31 of each year and results will be submitted to the BSD within 45 days of the close of each half year.

Please acknowledge receipt.